How to create a strategy in forex?

As forex traders become confident, they wish to step out of premade frameworks and express their skill. That’s when many opt to devise their own strategy, as a way to truly prove their mastery over the markets.

However, that’s also where many find that making a successful strategy isn’t as easy as it seems. They may find success initially but fizzle out quickly, or give up before they even get going. Creating [DB1] a strategy takes not only market knowledge, but a separate planning skillset.

In this article, we’ll outline some of the clear and actionable steps to create a forex trading strategy.

Define your forex goals

Your forex trading strategy will never feel successful if you don’t know how to measure its success. It’s relatively easy to make a strategy that earns you $1 per month, but that won’t suffice for most traders. You need to have a clear measurement.

The SMART methodology in goal setting is popular in marketing and many other branches. SMART, in this case, is an acronym for specific, measurable, achievable, realistic, and time-bound (or timely in some interpretations). Let’s break this down:

Specific

You should have a specific number you want to reach with your strategy. For instance: I want this strategy to bring 5% profit.

Measurable

Your goal should be easy to measure. Luckily, this is the default in trading as we’re dealing with hard numbers.

Achievable

Your goal should be possible. If you want a strategy to bring in 200% of its initial capital each month, you’re almost sure to fail.

Realistic

Your forex strategy should be realistic for your conditions. Consider the time you can devote to trading, your risk tolerance, initial capital and trading style. Someone who trades for five hours a day can realistically expect much more than someone who only does for half an hour.

Time-bound

You should measure success in a certain time frame. For instance: I want this strategy to bring 5% profit this month.

Setting good goals is the first step towards success. It gives you a specific thing to work towards, lets you know you need to improve and when to stop developing. Perhaps most importantly, it allows you to, at one point, stop and confidently say your strategy is successful.

Determine your forex trading style

A lot hinges on how you trade. Scalpers, day traders, e position traders, for instance, all have wildly different approaches to trading.

Scalpers will likely aim for longer periods of actual trading with less time devoted to research and learning. Day traders forex will be somewhere in the middle ground, and position traders will want to prepare well, set their positions, and forget about them for at least a while.

It’s also important that you choose the right account and tools for your trading style. Scalpers will need a broker that allows scalping, for starters. Once that’s done, they’ll need the tightest spreads possible, and a lack of flat fees.

Day traders are somewhere in the middle in that, they also usually prefer tighter spreads over flat fees, but that may change with volume. Position traders, of course, will look for zero-spread accounts with flat fees, but lower overnight fees will be essential.

Lastly, you’ll also want to organise a set of indicators that you can use for your trading orientation. Scalpers will want fast MAs, volume indicators, and momentum indicators, but day traders will want slower MAs, tools like MACD and RSI, and Pivot Points.

Position forex traders depend on indicators the least, since most of their analysis is usually outside a trading platform. However, they can also benefit from long-term MAs, RSI, and more specific indicators like the Ichimoku Cloud.

Choose your forex asset(s)

When creating a strategy, you can either focus on a single asset or a group. If you take the latter approach, your pairs will usually have something in common. For instance, you can choose to incorporate all pairs containing EUR in your strategy. This is, of course, more difficult, as you’re essentially merging multiple micro-strategies into a single one.

Your assets should align with your goal. For instance, if you decide to try to maximise profit in a short period of time, you should choose something that’s comfortable and easy to follow. If you’ve got more time, you can incorporate assets you’re less familiar with.

The asset you’re choosing should also align with your trading style. You won’t want an exotic pair as a scalper, as they suffer from low volume and liquidity issues. This may not present an issue for a position trader who’s confident in a price shift over time (as they aren’t aiming to exit on a specific pip).

Additionally, if it’s important for your style (as it often is for scalping and day trading), you should consider time zones and peak market times. If you, for instance, have a standard 9 to 5 day job on top of trading, it won’t be good if peak times for your asset are during your work hours or in the middle of the night. Always check peak times and how they overlap with your time zone.

Analyse your asset(s)

Once you’ve got your asset group, you can start conducting your analysis. Again, this will differ significantly based on your trading style.

A scalper will want to focus on the now. That means low-latency indicators, low timeframes, and a focus on in-chart analysis. Simply put, if prices are moving, scalpers don’t necessarily want to know why, they just want to capitalise.

Day traders approach things a bit differently. They will want to employ a mix of technical and fundamental analyses (which one they focus on depends on the exact day trading sub-strategy they are using). They are interested in reports, pre-market data, and intraday analysis. Still, in-chart tools play a significant part, with VWAP, MACD, and RSI indicators being immensely helpful.

Lastly, position forex traders will focus on big-picture situations with most of their analysis done outside charts. They are more likely to focus on fundamentals analysis and try to understand economic circumstances to form expectations. These traders aim to fortify themselves, so it’s important they build a good foundation.

Manage risk diligently

A part of setting your goals should also be an important part of planning. You should set TPs/SLs on every trade, according to how much you intend to place and how much you’re prepared to lose.

Again, how you determine your loss tolerance depends on your strategy. Scalpers may want to set how much they are willing to lose per day/week, since they place so many forex trades a per-trade basis isn’t effective. Conversely, position traders may prefer the loss-per-trade method.

It’s also extremely important to set a failure point for your strategy. Sometimes, things just don’t work out, and while that’s unfortunate, it’s better to cut loose than try to force a strategy that doesn’t work or suit you.

Set entry and exit forex rules

Forex hand in hand with risk management, and is a crucial part of creating a lasting strategy. You should have clear rules for when you enter and exit trades depending on your trading style. For in-chart analysis like in day trading and scalping that may look like this:

Entry: Buy GBP/USD when RSI < 30 and a bullish engulfing candle forms.

Exit: Take profit at +50 pips or stop loss at -30 pips.

For longer-term oriented traders, entry rules may be slightly more vague. However, it should always be backed by data, and not just based on a feeling a pair will do well.

Test, improve, and stop

There’s a wide variety of trading tools meant for testing strategies without spending money. For instance, you can register for a demo account and test it with virtual currency. Alternatively, many platforms offer free backtesting features that you can use to make sure your strategy is effective.

We also know that sometimes, strategies perform better in testing than in real conditions. Testing eliminates a lot of the stress and execution, so traders may find themselves surprised at their (under)performance in real markets. Our advice here is just to stay calm and stick with your strategy if it worked in testing. Eventually, you should break through the mental barrier holding you back.

You should also try to adjust and improve your strategy based on your results. However, you shouldn’t do it so much that it feels you’re changing something every time you open your platform. We recommend setting a daily-monthly (based on your strategy’s time orientation) session where you’ll gather data, see what worked and what didn’t, and make adjustments based on that.

Finalising strategy development

And finally, you should know when to stop. It’s appealing to try to milk each penny out of a strategy, but that means you’ll eventually end up disappointed since you can’t push it further.

A possible approach is to, when your strategy meets the goal you initially set out, set it aside. You now know you have one successful strategy. If you want to push it further, create a mental copy of it and adjust it as you see fit. If the new strategy fails, you can always fall back to the old one, if it’s good, it can replace it, or the two can coexist as tools for different situations.

This way, you’ll avoid the common mistake of warping your initial idea so much with constant tweaks that it becomes unrecognizable. Working within the framework we’ve provided, traders should be able to create their first strategy and if they continue, a wide array of successful trading strategies to pull from.

Disclaimer: This information is not considered investment advice or an investment recommendation, but instead a marketing communication. IronFX is not responsible for any data or information provided by third parties referenced, or hyperlinked, in this communication.